Call, put options may be allowed in shareholding deals

The panel headed by Vijay Kelkar on fiscal consolidation recommended earlier this year that the government use the options route to achieve its divestment target. Photo: Hindustan Times

Updated: Wed, Nov 21 2012. 01 16 AM IST

New Delhi: The government may declare call and put options in shareholding agreements legal, in a move that may speed up the planned sale of state assets and help it avoid a legal tangle of the kind that stemmed from a pair of deals struck in the early 2000s by the coalition that was then in power.

Legal experts are examining the proposal, which, if implemented, would help remove ambiguity over the legality of options in shareholders’ agreements, said a finance ministry official on condition of anonymity. Options are contracts that give the holders the right, but not the obligation to buy or sell a certain number of securities at a set price.

The point of reference for the United Progressive Alliance (UPA) government is the sale of a 51% stake in Bharat Aluminium Co. Ltd (Balco) to Sterlite Industries (India) Ltd for Rs.551.50 crore in 2000-01, and a 26% stake in Hindustan Zinc Ltd for Rs.445 crore to Sterlite Opportunities and Ventures Ltd in 2003-04 by the National Democratic Alliance government. Both deals had call options, which were declared illegal by the UPA government when Sterlite attempted to use them to increase its stakes.

“The government took a certain view on Balco and Hindustan Zinc, which went into a legal tangle,” said the finance ministry official cited above. “We are trying to see how that impacts any future move on this front. Once a final view is taken, we will notify it.”

The finance ministry, however, is hoping that since the change in the government’s stance on options will be effective on prospective basis, it should be free of complications relating to those deals.

A call option allows the holder to buy a security at a predetermined price, usually above the current price, within a limited time period. A put option gives the holder the right to sell securities at a specified price within a limited period. When an option is exercised by the holder, the shareholder will be obligated to buy or sell the shares at the predetermined price.

While a put option provides an investor with an exit route from a company, a call option gives the option to increase the shareholding in the firm.

The finance ministry official said options will be applicable to any contract between two parties in a shareholders’ agreement. “It will give investors some confidence and give them an exit route. When they have an exit route, they will be willing to get in any agreement involving securities between two parties,” he added.

Arun Kejriwal, director of Mumbai-based equity research firm KRIS, said the proposed move would provide a fillip to private equity investors.

“Their biggest problem is exit. If the market condition is not good for an exit through public listing, then they can exercise the options route for exiting the venture. The government is bringing back something which they had conveniently forgotten,” he said.

The UPA government in 2004 invoked a clause in the Companies Act to declare options illegal when Sterlite wanted to exercise the call option and buy the residual stake in Balco and Hindustan Zinc. Both the Reserve Bank of India and the Securities and Exchange Board of India have also ruled against allowing options in shareholding agreements.

Kejriwal said the move to legalize options would boost the government’s disinvestment process. “Through the options route, you don’t pay upfront and hence there is no pressure of additional stock supply,” he said.

The Kelkar panel on fiscal consolidation recommended earlier this year that the government use the options route to achieve its divestment target. Under the route, the government could offer for sale multiple securities simultaneously over a period of time until the divestment targets are achieved, the panel said.

The panel said the route provides an opportunity for the government to sell shares in public sector firms regularly as against a large stake sale on a single day through the auction route, such as in the case of Oil and Natural Gas Corp. Ltd (ONGC). The finance ministry was widely seen to have drafted Life Insurance Corporation of India at the last moment to purchase 377 million ONGC shares for Rs.1,069.6 crore in March when investors did not show enough interest in the auction.

“This is to address the issue of wide fluctuation in market prices arising out of additional flow of liquidity into the market and to avoid market price volatility, if any,” said the panel headed by former finance secretary Vijay Kelkar. It also provides investors an opportunity to buy an option that can be exercised in favourable market conditions. “This is to address the concern of investors that prices fall after the issue is successfully completed,” the panel said.

In 2011-12, the government raised Rs.13,894 crore from asset sales against a target of Rs.40,000 crore. It proposes to raise Rs.30,000 crore in 2012-13 from asset sales.